In early October 2008, at the nadir of the global financial crisis, a vicious run on UK deposits began at Icesave, the online bank account operated by Landsbanki, amid international panic about the solvency of Icelandic financial institutions. It led to the website being shut down and savers left in the dark over the weekend. British retail depositors, charities, councils and other public institutions had £6bn they could not reach.

The following Monday morning the chancellor, Alistair Darling, telephoned Árni Mathiesen, his opposite number in Iceland. In the short, strained telephone exchange between finance ministers, Darling's worst fears were confirmed. "Since we can't cure the domestic situation, we can't really do anything about things that are abroad," Mathiesen said.

"See, I need to know this," Darling pressed him, "in terms of what I tell people. It's quite possible that there is not enough money in [Iceland's depositor guarantee] fund. Is that right?"

The Icelandic finance minister confirmed: "Yes, that is quite possible." In fact, the fund was virtually empty and the crisis-stricken Icelandic government was refusing to take on its liabilities.

"You have to understand that the reputation of your country is going to be terrible," Darling fumed. "It really is a very, very difficult situation where people thought they were covered and then they discover the insurance fund hasn't got any money in it."

The next morning, Darling delivered his draconian response. The UK Treasury stepped in where Iceland refused to do so, with a full deposit guarantee for 229,000 British retail savers.

Meanwhile emergency laws were deployed to freeze Landsbanki assets in the UK. Underscoring Britain's determination to cast Iceland as international pariahs, Landsbanki, along with Iceland's central bank and Matthiesen's finance ministry, were each named on a UK list of "financially sanctioned regimes" alongside Burma, North Korea and Al Qaida.

In the two years before the meltdown British savers had stampeded into Icesave, lured by market-beating interest rates. On the website they read: "You can also rest assured that with Icesave you are offered the same level of financial protection as every bank in the UK."

An Icelandic guarantee fund would provide the minimum guarantee under European rules, while a top-up guarantee from the UK Financial Services Authority brought protection to the same level, Landsbanki argued, as savings placed with a high street bank in the UK. Why would you put your money anywhere else?

While such messages of assurance were sufficient comfort for many less sophisticated UK savers, more informed international investors had for years been deeply wary of exposing themselves to Iceland.

Landsbanki's aggressive entry into the UK savings market in October 2006 was a response to mounting credit concerns about Icelandic financial institutions in the bond markets. Reports had begun to appear in financial circles, warning that these firms were heavily reliant on short-term funding from the wholesale bond markets, and that in the event of a shock they were too big for the state to bail out. Reflecting fears of trouble ahead, the cost of insuring bank bonds rose sharply.

"Incestuous cross-ownership in the financial and corporate sectors, imbalances in the economy and the banks' over-reliance on market funding point to a significant, and perhaps underestimated, systemic risk," wrote Simon Adamson, a credit analyst at CreditSights, in January 2006.

Against that backdrop, a tidal wave of British deposits was greeted with delight – and not just by worried Landsbanki executives, but also by the credit rating agencies, which quickly moved to upgrade their assessment of the bank's credit quality.

Landsbanki's chief executive, Sigurjón Árnason, the architect of Icesave, explained in early 2007 how easy it had been to avert a wholesale funding crisis by turning to UK savers: "What we considered a permanent solution was simply not being as dependent on the financial markets.

"One solution is raising deposits ... We stumbled upon the idea to create internet accounts with higher interest rates than usual, which would in that way advertise themselves, since advertising is expensive ... All I have to do is to check at the end of the day how much money has come in – £50m was deposited only last Friday."

Arnason was hailed as a hero at the bank and delighted its major investors, led by the chairman, Björgólfur Gudmundsson – who was himself becoming a big name in the UK, after his acquisition of West Ham football club a month after Icesave was launched in Britain.

By 2007 Gudmundsson's fortune had propelled him and his son, Björgólfur Thor Björgólfsson – known as Thor – on to Forbes magazine's international billionaires list. Their joint control of Landsbanki meant Thor was said to be the 249th richest person in the world, with a fortune worth $3.5bn. His father was ranked 799th. Last year, however, the fall of Landsbanki pushed Gudmundsson into bankruptcy owing $1.1bn. Simon Bowers